Trade finance assets may include import finance, export finance, and other trade finance. In import financing, a participating bank customer finances the acquisition price of goods that it has ordered from an offshore-based exporter. The import financing includes import loans originating from drawings under letters of credit, documentary collections, and open account import transactions.
For an import loan under a letter of credit, an importer opens a letter of credit with a participating bank in favor of an exporter. The exporter is paid by the participating bank upon presentation of the relevant trade documents. The importer reimburses the participating bank.
For an import loan under documentary conditions, importers receive a loan through participating bank documents relating to the trade transaction between the importer and exporter. The participating bank makes payment to the exporter once the importer confirms that the documents are in order. The importer reimburses the participating bank.
For an import loan under an open account basis, the exporter enters into a trade transaction with an importer on an open account basis where the exporter is exposed to the importer's credit risk. The participating bank makes a payment to the exporter on behalf of the importer. The importer reimburses the participating bank.
In export financing, a participating bank customer finances the sale of goods to an offshore-based importer. The export financing includes export loans and open account transactions, as well as bills negotiated under letters of credit.
For bills discounting/negotiation under a letter of credit, the exporter receives a letter of credit issued by a bank or financial institution on behalf of the importer. The exporter presents documents under the letter of credit to a participating bank. The participating bank purchases drafts at a discount drawn by the exporter under the letters of credit. The importer's bank or financial institution reimburses the participating bank. The export loan is made on a full recourse basis against the exporter.
For an export loan under documentary collections, the exporter forwards documents through the participating bank to an importer. The participating bank makes an interest bearing loan to the exporter equivalent to the face amount. The exporter repays the loan amount with the importer's payment.
For export loans under an open account, an exporter enters into a trade transaction with an importer on an open account basis where the exporter is exposed to importer's credit risk. The underlying trade transaction is evidenced by a commercial invoice. The participating bank makes a loan to the exporter and looks to the exporter for reimbursement.
In financial institution financing, a participating bank makes a loan to another financial institution for a specified trade related purpose. The financial institution financing includes loans related to trade activities where a participating bank participates in another financial institution's trade related exposures.
Receivables financing provides the right to payment of the full face amount of trade invoices from the obligor under both the buyer and seller centric models.
The world's financial markets have experienced a dramatic increase in globalization. Global trade has quadrupled in the past 20 years and doubled in the past 10 years. GDP and GDP per capita growth, particularly in emerging markets, are stimulating trade growth. Globalization is increasing exports share of GDP, and emerging economies have contributed over 50% of all export growth. Lower transportation and communication costs have fueled efficient supply chains.
Globalization and consolidation, coupled with a new regulatory regime is resulting in fundamental shifts to the trade business. Basel III proposals will make significant additions to bank capital requirements that could lead banks to re-examine their portfolios and leverage. Business is consolidated with major trade banks, so new flows between developing economies and within regions makes it harder for banks to compete that do not have an extensive branch network, and banks for which trade is not a core business line may determine that the increased capital costs are too expensive to make the business worthwhile. The small and medium enterprise sector may be impacted, as increased capital requirements are felt most strongly with lower rated assets, providing an incentive to go up-market.
Trade finance assets typically have a short tenor of transactions, where the average tenor of all products is about 90 days. There is a low instance of default across all product types, and relatively few defaults were observed through the global economic downturn. The trade finance assets also had good average recovery rates for all product types.